Playing the Angles

REMEMBER FAST EDDIE, Paul Newman's title character in The Hustler? There's a new Fast Eddie, and he's calling the shots these days.

This Eddie is Edward Lampert, the once famously reclusive hedge-fund manager who suddenly shows up on the cover of last week's Business Week to be lionized as "The Next Warren Buffett." Then Eddie stuns Wall Street and Main Street alike by announcing Wednesday that
Kmart Holding,
the holding company for the recently bankrupt discounter, is buying
Sears,
the venerable retailer, for cash and stock worth about $50 a share. ESL Investments, Eddie's hedge fund, controls Kmart with 53% of the shares. ESL also happens to own a little under 15% of Sears. The $11 billion deal would create the nation's third-largest retailer with annual sales of $55 billion.

The combination of these two laggard store chains, the conventional wisdom held, would let Kmart and Sears have a fighting chance to take on the Evil Empire. No, not the New York Yankees, but
Wal-Mart,
the world's No. 1 retailer. By using their combined bulk to wring out the kind of deals from suppliers demanded by the behemoth from Bentonville, Sears and Kmart have a chance to survive. Or Eddie might realize more windfalls from the sale of real estate, such as the one last summer when Kmart netted over $800 million as
Home Depot
and, coincidentally, Sears took 5% of Kmart stores off the discount chain's hands.

Whatever the reason, the stock market loved last week's deal, pushing up Sears' shares 17% to a hair under 53. That was nearly half again what Sears fetched just a few weeks ago, just before
Vornado
let it be known it had a 4.3% stake in the retailer. Kmart added 7.7% Wednesday to close at 109, more than a shade off the session's high of 120; by week's end, the stock was back to 105.

Adding in no small part to the rise in Kmart, which began the year around 30, has been a marked increase in the short position -- equal to 24% of the float at last count, according to Dow Jones Newswires. Skepticism about Kmart's worth has been costly, as the squeezed shorts can attest. And in the interest of full disclosure, Barron's last summer pegged the stock's value at 65-70 ("Attention Kmart Holders," July 19) when it was trading around 80.

The bulls, it seems, now are mainly betting on Eddie. And to be sure, letting your money ride on him has paid handsomely. As Busy Week's hagiographic profile details, he's scored triple-digit gains in his big stakes in
AutoZone,AutoNation,
Sears and, of course, Kmart. Eddie's success could be traced to his hands-on obsession to detail to get rid of costs and inefficiencies. The results were apparent in Kmart's latest quarter, in which it was profitable in contrast to a year-ago loss.

But combining two second-rate retailers is unlikely to produce a first-rate one. Both Kmart and Sears alike have seen same-store sales decline in the most recent quarter -- by 4% for the latter, a whopping 12.8% for the former. For Kmart, that seems to be by design as management tries to streamline operations, ostensibly before bulking them up.

From a consumer standpoint, Sears and Kmart both look like retailers in permanent decline. An online poll among WSJ.com subscribers found that 45% of some 7,000 respondents hadn't been in a Sears or Kmart store "in years." One has to wonder if a merger between Montgomery Ward and W.T. Grant would have prevented their demises. You'll recall that Sears left Monkey Ward in the dust after World War II when it followed consumers to the suburbs. And Grant went belly-up in the 'Seventies after rival S.S. Kresge opened its innovative discount stores, which it dubbed Kmart.

Creative destruction is alive and well in retailing. The creative ones, such as Wal-Mart,
Target,
Home Depot,
Lowe's,Best Buy
and
Costco,
not to mention
Amazon.com,
may well wind up destroying the likes of Sears and Kmart. If so, count on Eddie to redeploy those assets in the quest for higher returns for shareholders, even if it means getting out of retailing. That's how capitalism is supposed to work.

Whatever the fate of Sears and Kmart, their combination, along with a flurry of other recent deals, demonstrated the stock market's gusto. The November advance appears to be powered by the usual greed and buying fever, stoked by prices headed higher. But a perverse sort of fear also may be at work. Bill Fleckenstein, the contrarian Seattle hedge-fund manager and pundit, dubs it "career risk." That now afflicts more than a few portfolio managers whose returns have been nothing to write home about -- or worse -- and feel compelled to get on board in time to goose results by year end.

The markets may not be so cooperative from here on. After spurting nearly 9% since early this month as worries about the election, oil prices and the economy eased, a reality check was delivered Friday by none other than Fed Chairman Alan Greenspan. With the dollar spiraling ever lower against the euro and Chinese citizens queueing up to get rid of their greenbacks, Mr. G. allowed that the world's appetite to lend to the U.S. to cover its gaping current-account gap isn't infinite, an obvious observation if there ever was one. Our dependence on foreign capital to cover our budget deficit as well should be apparent after Congress approved an increase in the debt ceiling of $800 billion, which should tide Uncle Sam over for maybe a couple of years.

The don't- worry, be-happy attitude about the diminishing dollar suddenly disappeared Friday as stocks and bonds took a header. By contrast, the new gold exchange-traded fund got off to a booming start last week. The chances that the Bush administration can do anything about the falling dollar are slim to none; its desire is even less. Only if -- or when -- the greenback's slide starts to drive up interest rates or push down stock prices will U.S. officials do anything.

THERE MUST BE A DEEP-SEATED HUMAN NEED to classify and rank things in lists because there's not much logical use for it. The folly is on display, amusingly, in David Letterman's Top 10 Lists. That doesn't stop people from coming up with new and inane ones. Consider the latest conjured, The Top 500 Songs, by Rolling Stone magazine. These are supposed to be the best songs ever to delight human ears. Yet the list consists primarily of tunes from the 'Sixties and 'Seventies -- not entirely surprising from a publication whose heyday was three decades ago. Nor should it be a surprise that Rolling Stone's No. 1 song of all time is "Like a Rolling Stone" by Bob Dylan, followed by "Satisfaction" by the Rolling Stones. See a pattern?

Given the boomer sensibility, nothing could be more apropos than the No. 11 selection, The Who's "My Generation," which includes perhaps Pete Townshend's most famous line, "Hope I die before I get old." This, it seems, sums up the boomers' approach to life, especially when it comes to saving.

Nevertheless, boomers are getting older, if not gracefully. That's gotten Ben Stein to sound the clarion call for the 77 million of that generation to start getting serious about saving if they expect to retire some day. Getting old is bad enough; getting old and being poor is the pits.

Ben, an old friend of Barron's whose writings have graced these pages in years past, says if you're fortunate enough to be making $500,000 a year now, to maintain that kind of lifestyle, you'll need $12.5 million in a bank account that pays 4%. He doesn't want to touch principal, a patrician notion befitting Ben, given that he predates the boomer era (if only by a couple of years). But if a 65-year old is willing to dip into principal (sorry kids), and she conservatively assumes her money has to last her 30 years, that $12.5 million will throw off $695,000 a year. After taking into account inflation, that's how much she'll probably need on average to maintain her standard of living. Even at a moderate 3% inflation rate, prices would double in about 24 years.

There are a fair number of folks reading this who do pull down that kind of pay, but probably far fewer who have accumulated that kind of nest egg, excluding the value of their homes. Quite to the contrary. According to our sister publication Smart Money, debt among the newly retired is exploding. Nearly one-third of seniors have unpaid balances on their plastic; their average balance is just over four grand, an 89% jump in the past decade.

Now these are folks whose parents lived through the Depression and used to pay off their mortgages. And their indebtedness pales, compared with that of the boomers who follow them. A perusal of the chart nearby provides graphic evidence of what's happening, and what worries Ben.

Households have spent more than they've earned in recent years -- what Northern Trust economist Paul Kasriel dubs the Household Deficit, as opposed to the more familiar budget or trade deficits. That spending takes into account expenditures on housing, which are classified as investments when the gross domestic product is totted up. Quibble about that if you will, but the trend is clear: Americans are spending more than they earn, whether it's for iPods, SUVs, vacations or McMansions. In the third quarter, that gap ran at an annual rate of $342 billion.

Put another way, Paul reckons that households spent $1.04 for every buck they earned in the latest quarter. That's the most since the third-quarter of 1950 -- a decidedly different time. Then, Americans had huge pent-up savings from World War II, when there was little available to buy on the home front. After the war came a spending boom, a housing boom and, of course, a baby boom.

Now those boomers have entered their prime saving years, but are running record deficits. Paul lays the blame at the feet of the Greenspan Fed. By holding the federal-funds rate below the 2.5% rise in the consumer price index, saving is a losing game; after taxes, it's even worse.

What Greenspan & Co. has done has rippled out along the yield curve, bringing fixed-rate mortgages below 6%, which ignited last year's explosion in refinancings. That paid for a lot of iPods, SUVs and vacations, and let people trade up to McMansions. And when refis tapered off, mortgage lenders started pushing all sorts of E-Z credit, especially adjustable-rate mortgages and interest-only mortgages where you never get out of hock and pray rates stay low.

Of course, the Fed's plan was to offset the bursting of the 'Nineties tech-telecom bubble. In the process, it's created a bubble in the consumer and housing sectors with the credit boom of the past three years.

Clearly, Ben Stein's message makes him a truly dangerous man who needs to be stopped. If everyone heeded his call to start getting serious about saving, the U.S., indeed the global economy, would be sent into a tailspin. (And where would those retailers be?)

Not to worry, Ben says. "For every hundred men who take the pledge to never drink again, maybe five stay sober," he observes. "Likewise, for every consumer who saves prudently, there will be 20 who don't. Just make sure you are on the winning side of this dismal scenario and you'll be fine. Or, in the words of the old joke about the hunters running from the bear, 'I don't have to outrun the bear. I just have to outrun you.' "

AND NOW FOR SOME GOOD NEWS for readers of this column. Alan Abelson, who has been under the weather for the past few weeks, will return next week.

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